Bajaj Finance: Going strong on lending

In the financial services space, investors are left with just a few choices when it comes to banking stocks. But non-banking finance companies (NBFCs) that continue to deliver strong growth in earnings, thanks to their niche offerings and focussed lending to select segments, offer pockets of opportunity.

While credit growth in the banking system continues to languish at 8 per cent levels, players such as Bajaj Finance continue to deliver healthy traction in loans, driven by strong growth in consumer finance business.

Since our buy call in January, the Bajaj Finance stock has rallied 37 per cent. But despite the strong upmove, the stock continues to trade at 3.3 times its one-year forward book value due to robust growth in earnings.

In the recent September quarter, the company’s earnings grew 42 per cent over the same period last year. Bajaj Finance’s stellar performance vis-à-vis peers in the space has supported its premium valuation. Mahindra and Mahindra Financial Services, trades at about two times the one-year forward book value, owing to steep deterioration in asset quality.

Bajaj Finance, on the other hand, has been able to keep bad loans under check despite robust growth in loans.

With interest rates trending lower, consumer spending is likely to get a boost.

This will provide a leg up to the company’s business, driving earnings growth of 20-25 per cent over the next two to three years. Investors with a long-term horizon can bet on the stock.

In the recent September quarter, the company’s strong earnings was led by healthy growth in loans, margin expansion and stable asset quality.

The loan book (assets under management) grew 36 per cent over the previous year, primarily led by the strong 42 per cent growth in the consumer finance business (41 per cent of total loans). The other segments also registered strong growth.

The small and medium enterprises (SME) business delivered 29 per cent growth, while the commercial loans segment grew 26 per cent. The rural segment, on a small base, grew five times. Moreover, the company’s investments in technology should help it capitalise on the e-commerce boom.

Bajaj Finance has recently launched a mobile app to provide instant finance to consumers. This is expected to lower its operational costs.

Against a 36 per cent growth in loans, Bajaj Finance delivered a higher 44 per cent growth in net interest income, on account of several reasons.

One, the company witnessed strong growth in the high-yielding consumer business. Two, there has been a substantial reduction of 40 basis points in the cost of funds during the first half of this fiscal. A high portion of the fixed rate loans (50 per cent) has also limited the downward pressure on yields. Lastly, capital-raising in the first quarter has to some extent aided margins.

The company’s strategic shift to the ‘direct-to-consumer’ model will also help bring down costs in the long run. The direct channel accounts for 35 per cent of loans against property (LAP) for Bajaj Finance; the management expects to scale this up to 60-65 per cent by the end of this fiscal. Both salaried and self-employed home loans are already 100 per cent direct-to-customer.

The ongoing transition has, to some extent, helped bring down the cost-to-income ratio to 44 per cent in the recent September quarter. In the long run, the management expects the cost-to income ratio to come down to 40 per cent levels.

The net non-performing assets (NPAs) — gross NPAs less provisions — stood at 0.46 per cent of total loans in the September quarter, marginally lower than the same period last year.

While Bajaj Finance follows a 150-day norm for classification of loans as NPAs, its provisioning is done on a 90-day cut off.

NBFCs have to classify loans as NPAs when borrowers default for 90 days or more by end of March 2018.

The management believes that its healthy provision coverage of about 70 per cent would remain unchanged even when the NPA recognition moves to the 90-day norm.

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